Overproduction and capitalist crisis

I have recently had a few emails that have asked me whether the Great Recession that we have just been through (and previous economic recessions) was caused by overproduction or by the falling rate of profit. It would be churlish for me to answer by saying: read my book! After all, that is what a sizeable part of the book deals with.

But I won’t be so curmudgeonly and instead try and answer in shorter fashion.

Overproduction is when capitalists produce too much compared to the demand for things or services. Suddenly capitalists build up stocks of things they cannot sell, they have factories with too much capacity compared to demand and they have too many workers than they need. So they close down plant, slash the workforce and even just liquidate the whole business. That is a capitalist crisis.

Overproduction is the very expression of a capitalist crisis. Before capitalism, crises were ones of underproduction (namely famine or scarcity). But to say overproduction is the form that a capitalist crisis takes is not to say it is the cause of the crisis. If it were the cause, then capitalism would be in permanent slump because workers can never buy back all the goods they produce. After all, the difference between what the workers get in wages and the price of the goods or services they produce that are sold by the capitalists are the profits. By definition, that value is not available to workers to spend, but is in the hands of the capitalist owners.

Marx devastatingly criticised those capitalist economists who claimed that there could never be a crisis of overproduction because every sale that a capitalist makes means that there will be purchaser. As Marx said, that there is purchaser for every seller is a tautology, the very definition of exchange. Sure, “no one can sell unless someone else purchases. But no one is forthwith bound to purchase just because he has sold”. The money from a sale can be hoarded (saved) and not used to buy. That alone raises the possibility of overproduction and crisis.

But the possibility of crisis in the process of capitalist exchange using money does not mean it will happen and provides no explanation of when or how. So Marx went further and explained that what will decide whether capitalists make purchases for investing in plant or new technology and to buy labour power to produce is the profitability of doing so. “The rate of profit is the motive power of capitalist production. Things are produced only so long as they can be produced with a profit”.

And this is where Marx’s law of the tendency of the rate of profit to fall comes in. Marx shows that the profitability of capitalist production does not stay stable, but is subject to an inexorable downward pressure (or tendency). That eventually leads to capitalists overinvesting (overaccumulating) relative to the profits they get out of the workers.

At a certain point, overaccumulation relative to profit (ie a falling rate of profit) leads to the total or mass of profit no longer rising. Then capitalists stop investing and producing and we have overproduction, or a capitalist crisis. So the falling rate of profit (and falling profits) causes overproduction, not vice versa.

But a falling rate of profit does not directly lead to a crisis as long as the mass of profit can rise. As I show in my book, it was precisely when the mass of profit stopped rising that the Great Recession ensued. In my blog of 19 January, The mass of profits and economic crisis, I brought more evidence to bear on that argument of Marx’s with the latest data from the US.

If this is right as the cause of capitalist economic crises and slumps – namely a falling rate of profit eventually leading to a fall in the mass of profit and thus overaccumulation of investment and overproduction of goods and services (that are profitable), then it leads to important policy conclusions.

For example, if we think capitalist crisis is caused by overproduction relative to the ability of workers to buy the goods produced, as Keynesians do, then the policy answer may be just to boost spending by government or make tax and interest rate cuts (what has been happening now). Problem solved.

On the other hand, if we think it is caused by lack of profit, then there is only one solution for capitalism: destroying the value of existing capital (plant, machines and employees) in order to cut costs and so restore profitability. Only that will get capitalism going again (for a while), but at the expense of the rest of us. Thus the inherent contradiction of capitalism is exposed. Only its abolition will stop the cycle of boom and slump.

It seems from this article that crises of overproduction can be abolished by simply raising the real wages of workers and making the capitalists accept a lower rate of profit(provided they get a sufficient mass of profits). I think here we have a theory of crisis-free capitalism as it appears that crises of overproduction can be abolished without abolishing capital or wage-labour relationship.

I would like to know from you wherein lies the flaw in the economic logic of the argument.

Aditya – Patnaik does not say that capitalism will be crisis-free. But you are right. He thinks that a rise in wages can achieve full employment and even avoid a fall in profits. So capitalists could solve crises but won’t do that because it strengthens workers and so threatens the system. This is the old position of Michal Kalecki and the modern position of some post-Keynesians. Capitalism does not have an irreconcilable economic contradiction but just a political contradiction. I don’t agree and have presented many arguments against the Kalecki position on my blog and in various papers. And it is certainly not Marx’s position. https://thenextrecession.wordpress.com/2017/07/01/the-profitability-of-marxian-economics/

Well, the link which you have posted does not clear all my doubts. Let me be a bit elaborate.

I am in absolute agreement with you that it is profitability which determines investment and not vice-versa. I think even Patnaik agrees with this when he writes “Capitalist economies experience over-production crises, because investment within this system, in the sense of addition to physical capital stock, depends upon whether capitalists expect such addition to earn an adequate rate of profit.They undertake only as much investment as they think would fetch this rate of profit.”

My doubts rather pertain to the mathematical model which Patnaik has set up. He assumes an economy whose full capacity output is 100 and says the ratio of wages and profits is 60:40(with the assumption that all wages are consumed and no profits are consumed).

Based on this, Patnaik outlines a situation of overproduction (or a crisis of unutilised capacity as follows):

“Then if full capacity output is produced, consumption will be 60; and this output will be demanded only if investment is 40 (for total demand consists of consumption plus investment). But if capitalists in the aggregate want to invest only 20, because they expect that any investment larger than 20 will not fetch the rate of profit they consider adequate, then aggregate demand will be 80 at full capacity output (60 +20), which will be less than the full capacity output itself, ie, 100. In such a case the economy will fall below full capacity output and will settle at producing only 50, at which consumption will be 30, which together with investment 20 exactly equals output 50. In other words there will be an over-production crisis that will entail 50 percent unutilised capacity.”

And then this is Patnaik’s proposed solution:

“But suppose in this economy full capacity of 100 was produced and when investment was 20, consumption could be raised to 80 from the original 60, then there would be no deficiency of aggregate demand and hence no reason for any over-production crisis. But raising consumption from 60 to 80 at full capacity output would mean raising the wage-share from 60 percent to 80 percent (since all wages and only wages are consumed). It follows that there would never be any over-production crisis if the share of wages could be adjusted upwards, and that a capitalist economy experiences an over-production crisis only because the capitalists stubbornly refuse to raise real wages for averting such a crisis.”

It must be noted that Patnaik proposes to solve the crisis of overproduction by raising real wages and allowing a fall in the share of profit in the total income (from 60:40 ratio to 80:20 ratio). He wants real wages to be raised by reducing prices while keeping money wages unchanged. He is not much concerned with again raising the level of investment to the previous ratio. He is primarily concerned so that production does not decrease from existing full capacity thereby preventing unemployment. He also thinks that his proposed solution would not hurt capitalists’ profits:

“It should be noted that if there is an over-production crisis and output becomes only 50, then the amount of profits from this output is 20. But if an over-production crisis is averted by raising the wage-bill to 80 out of the full capacity output of 100, even then profits remain 20. Hence averting an over-production crisis by raising the wage-bill, and thereby consumption demand, does not hurt profits an iota. The rise in wages does not occur at the expense of profits”

My concrete question is: why this solution will not work? Can you please explain this in terms of the given mathematical model? I agree with you that there is a basic economic contradiction in capitalism (not just a superficial political contradiction), so I want to understand exactly where Patnaik’s logic is flawed and what are the flaws in the above model.

I agree with you completely that it is profitability which determines investment and not vice-versa. I think even Patnaik accepts that. But what he says is that when capitalists want to invest less due to decreasing profitability, in such a situation decreasing the amount of income going to profits (which are invested) and increasing the amount going to wages (which are consumed) will solve the problem as production will be maintained at full capacity and there will be no crisis of overproduction. I want to know especially where is the flaw in this logic.